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Study: Local Tax Breaks for Manufacturers Don’t Work

Researchers say strategy should focus on new, not old, economy

October 9, 2007 | By Keith Schneider
Great Lakes Bulletin News Service

State of Michigan
  In May, State Senator Jason Allen and State Representative Gary McDowell attended a bill signing by Governor Jennifer Granholm that extended tax abatements beyond the manufacturing sector.

DETROIT—More than 30 years after Michigan first allowed state and local governments to sharply cut property taxes for manufacturing companies that promise to retain or add local jobs, a new study by state university researchers has found that the strategy is usually ineffective. Instead of aiding economic growth, the study found, the cuts often harm the communities that grant them.

The authors of the new report, Gary Sands, professor of urban planning at Wayne State University, and Laura Reese, the director of the Global Urban Studies at Michigan State University, found that Michigan’s local governments give up about $1 billion in tax revenue annually to encourage job growth but usually receive little in return. The job growth and diversification that the tax breaks were supposed to trigger were minimal, and the cuts often subsidized sprawling development.

The study also said that communities that grant tax abatements rarely check to see if their strategy is actually working.

"Abating property taxes on industrial development does not appear to be a guarantee of increased prosperity," said the authors of the report, Industrial Facilities Tax Abatements: Current Practices and Policy Recommendations, which was funded by the Land Policy Institute at Michigan State University. "Indeed, communities that seldom, if ever, granted abatements during the 1990s were about as likely to experience economic growth as communities that were generous in granting abatements."

Even though these and the report’s other conclusions are consistent with previous academic studies in and out of Michigan, they are nevertheless likely to spark vigorous debate. That is particularly true now that Michigan lawmakers and the governor, who last week agreed on tax increases to help the state close a $1.8 billion budget deficit, are looking for ways to cut the state’s already greatly reduced budget by as much as another $400 million. Those cuts will almost certainly affect the amount of money the state sends to local governments, making it harder for cities, villages, and townships to solve their own budget woes and more eager to use tax abatements to boost their economies.

A Favored Development Tool
However, economic development specialists and local government officials who support the tax abatement strategy assert that, even without a state budget crisis, they would still need every tool available, including abatements, to compete for new businesses and jobs.

"They’re essential," said Rick Chapla, vice president of The Right Place, a non-profit economic development organization in Grand Rapids. "As long as every other state in the union has tax abatements and incentives, the reality is that Michigan has to have these incentives to compete. We have to fight to be competitive and tax abatements are the cornerstone of economic development tools."

Tax abatements have been a favored industrial development tool in Michigan since 1974, when the state Legislature approved Public Act 198, following the Chrysler Corporation’s threat to shutter its Mack Avenue Stamping Plant in Detroit unless the company secured significant tax relief.

Under the state law, the tax breaks are awarded as incentives for businesses to either remain in a community to retain jobs, or to encourage new businesses to locate in a community. The abatements cut in half the taxes the firm must pay for new equipment or property. In return, the firm agrees to create jobs or prevent their loss.

Tax abatements can be granted for up to twelve years. On average, about 600 abatements are awarded each year across the state, sharply diminishing local tax revenues by a total of about $1 billion annually.

Since 1980, according to the new study, more than 40 percent of the state’s 1,773 local governments each approved at least one tax abatement. Grand Rapids has made the most use of the tool, approving 522 of the 16,700 abatements issued by local governments in Michigan.

Nearly $70 billion in industrial investments during the part 25 years received tax abatements, said the study—63 percent since 1996. And manufacturers claimed that with the help of tax abatements they retained 1 million existing jobs since 1980, and generated 286,000 new jobs.

Cornerstone or Chimera?
The question that Dr. Sands and Dr. Reese sought to answer is whether such numbers give a true picture of the difference that reducing industrial property taxes makes to the state’s well being. Their conclusion: tax abatements don’t add nearly as much value as communities think.

In reality, said Dr. Sands, "If Indiana and Ohio kept on giving firms abatements, then yes, some plants would leave, but most of the investment covered by tax abatements could continue to happen."

"Many times, abatements are granted to the same companies over and over again," said Dr. Reese, adding that abatements are a very expensive way to forestall the inevitable for maintain firms that are struggling to stay afloat in dying industries: "Despite billions of dollars in foregone tax revenues, manufacturing jobs have declined in Michigan in almost every category."

Among the study’s formal conclusions:

  1. Local governments in Michigan are giving up $1 billion annually in tax revenue in a largely futile effort to attract and keep manufacturing jobs in Michigan.
  2. With the exception of heavy transportation equipment manufacturing, in which abating taxes did help to preserve jobs, the tax breaks did little or nothing to increase employment in other industrial sectors.
  3. The 70,000 jobs that abatements were supposed to produce in the high tech manufacturing sector in the 1990s never materialized, or actually left Michigan.
  4. Abatements were largely useless in helping Michigan communities diversify their economies and attract new industries.
  5. Cities focused their tax abatement strategy on preserving dying manufacturing sectors while faster growing suburbs awarded generous tax breaks for industrial installations that added to sprawl. "These new suburbs would likely have attracted manufacturing investment and jobs even without granting abatements," said the report.

The figures the study came up with for heavy transportation equipment manufactures seem encouraging: Abatements added 37,000 jobs in that industry between 1992 and 2002. But even that success proved short-lived, the study said: Since 2002, that sector’s employment has plummeted. The study also wondered whether continuing tax abatements for this sector was smart policy.

"The reality is that significant financial incentives have been directed at industries suffering from permanent structural decline," said the authors.

Other industrial sectors actually lost jobs despite heavy use of abatements by local governments. The high-tech manufacturing industry, which predicted that tax abatements granted between 1992 and 2002 would generate 107,000 new jobs in Michigan, employed less than 37,000 workers in 2002—8,000 less than a decade earlier.

Wanted: A Better Approach
Drs. Sands and Reese suggest that instead of using tax abatements to attract and retain major manufacturing corporations, they should target new, 21st-century, knowledge-based industries such as information technology, biotechnology, computer sciences, software development, bio-fuels development, and others.

The researchers also concluded that communities, especially those in the suburbs of Grand Rapids and Detroit, are awarding very lucrative property tax breaks when none are really required to attract or retain employers. Companies that settle in the suburbs and apply for abatements would do so with or without property tax relief, they maintain. Other factors, the authors found, are more important to their business strategies.

The results for communities, however, are often quite negative, they said: The abatements help to generate large local-government deficits, particularly in tough economic times. When that forces officials to cut their municipal budgets, it actually makes it more difficult to attract other firms in the future.

For example, Detroit gave up $40,000 annually in tax revenue for each job a company receiving tax abatements said it would retain or create. Alpine Township, outside Grand Rapids, lost $19,615 annually for each tax-abated job retained or created there.

"In the long run, if those communities receive the income they lost from tax abatements, they could provide better services," said Dr. Sands. "Better services make them more competitive places."

Dr. Sands and Dr. Reese also found that communities award tax abatements to virtually any company that asks for one. But most local governments do not closely monitor whether the assurances companies made to retain or add jobs actually occurred. A survey by the author found that "55 percent of municipalities do not evaluate the outcomes of their abatements, and another 28 percent evaluate only occasionally."

"There are no mechanisms in place to assess the extent of job creation after the fact," said the authors. "And it is entirely possible that firms know going in that it is likely they will not be held accountable for any lack of performance on abatement conditions."

Keith Schneider founded the Michigan Land Use Institute in 1995 and is the organization’s writer-in-residence. Reach him at keith@mlui.org.  A version of this article was published by the Land Policy Institute Web site to preview a conference hosted last week by MSU and the Institute for Public Policy and Social Research.

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